A Good Sign: Ariba’s Earnings Suggest That Deals are Getting Done (Part 4)

In wrapping Spend Matters observations on Ariba's latest quarter, there are a few points from the earnings report and conference call still worth exploring in more detail. The first is centered on Ariba's "land and expand" revenue growth strategy, especially in the downstream (i.e., P2P) area. On the call, Bob Calderoni remarked that "we continue to add downstream customers at a healthy clip, and this is key because downstream deals are the solutions that ultimately drive future network volume [emphasis added]. This is another reason we're very excited about the Network Business, and our long-term expectation[s for it]." Reading between the lines of this statement is not difficult. Ariba is likely to be aggressive in P2P pricing in order to win customer business and profit from the high margin network fees -- and potentially other revenue streams -- associated with transaction and dollar volumes down the road. Sound like a Gillette razor blade or Nespresso strategy (i.e., under price the initial solution to make industry leading margins on the back-end)? You bet.

However, given the potential for continued network fee increases (more on this soon), companies should consider in their calculations the true total cost of doing business with Ariba, rather than simply the cost of the contract itself. For example, if high-dollar, low-volume suppliers end up having to pay a couple hundred bucks per invoice in the not-so-distant future, it's pretty clear that cost will get pushed back on the buying organization in one way or another. Even though Ariba's network fees were relatively small last quarter -- "$6 million on the supplier side and $3.4 on the buyer, totaling $9.4 million" -- I highly suspect the network will be a nine figure annual revenue stream by 2012, materially surpassing the expectations Ariba has articulated to the street if they find other ways of monetizing in addition to the expected fee increase.

Central as well to the network strategy are longer deals. On the call, Ariba articulated, "our average length of a contract has gone from 24 to 26 months. So, in turn, you see the total backlog inching up." Moreover, once Ariba gets into a customer, they're finding new ways to service them. To this end, Ariba suggested that "We definitely believe in the land and expand strategy ... we are getting our foot in the door with customers in every quarter, 65% of our new bookings goes to existing customers. So, it's important to us to keep landing new customers, get our foot in the door, sometimes with a small deal, then follow up with a bigger deal, 60 days to 180 days later." In other words, once Ariba gets in to an account, they're very likely to find new ways to work with the client.

From a prospect perspective, since Spend Management suites tend to work better as a whole than piecing together individual solutions from different providers, I'd recommend that companies consider broader deals upfront to get Ariba to sharpen their pencil on bigger packages. Because once they have you in one area, you're less likely to get the same type of deal you had before in others, because the competition is always at a disadvantage in these cases. Land and expand may be great for shareholders from a margin and revenue perspective, but from a customer's viewpoint, you'd do well to consider ways of negotiating an integrated suite deal at the get-go rather than adding individual modules piece-by-piece. Or, as an alternative, when you purchase a single module or two, require Ariba to lock the pricing for adding components for a period of time based on a bundled negotiation.

The last point of analysis for this quarter on Ariba centers on a question of global expansion. Here, Bob noted on the call that Chinese buying organizations have not been "quick to adopt software process change as India has been." For Ariba, "China is a place where we have suppliers more than we have buying customers." But I'd argue it does not have to be this way. Emptoris recently signed a large deal in China. Other organizations are penetrating the Great Wall as well. For me, Bob's comment is a signal more that Ariba is punting on China to focus on other geographies and solution areas more than an accurate reflection of the state and interest in software buying in the region.

I'll be covering Ariba's company and solution direction in depth in the coming weeks from LIVE (and I'll also offer a preview tomorrow about what I'm expecting from LIVE). If you're a customer, prospect, analyst or partner, check back as we take a close look at how Ariba's emerging vision and solution strategy map to current and emerging procurement needs -- not to mention the overall competitive context and alternatives companies should be considering in the market alongside Ariba options.

- Jason Busch

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